Common Pitfalls in Commercial Property Insurance. Presented by: Craig Mathre , CPCU, CLU, CIC, ASLI, AU, IAC, AAM, ARM, ARE Markel Re 4521 Highwoods Parkway Glen Allen, VA 23060 November, 2006. Common Pitfalls in Commercial Property Insurance.
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Craig Mathre, CPCU, CLU, CIC, ASLI, AU, IAC, AAM, ARM, ARE
4521 Highwoods Parkway
Glen Allen, VA 23060
Pitfall…..”a hidden or not easily recognized danger or difficulty”. This is how the dictionary defines these concealed hazards. It also happen to be the word used to describe “a hole in the ground that serves as a trap”
Example #1: (a profitable business) financial consequences:
Actual After LossHad No Loss Occurred
Revenues $100,000 $200,000
Expenses $ 75,000 $ 50,000
Net Income $ 25,000 $150,000
Business Income Loss = $125,000
Example #2: (an unprofitable business)
Actual After LossHad No Loss Occurred
Revenues $100,000 $150,000
Expenses $200,000 $175,000
Net Income (Loss) ( $100,000) ( $ 25,000)
Business Income Loss = $75,000
Example: Reduction in Net Income Resulting From Changes in Both Revenue and Expenses
DEF Corporation owns a video rental store in a one-story masonry building near a large shopping mall. A strong thunderstorm damages the roof of the building, allowing rain to enter and cause significant damage to the video rental store’s inventory. Repairing the damage will take 60 days.
After the LossHad No Loss Occurred
Revenues 0 $120,000
Expenses $10,000 $100,000
Net Income ($10,000) $20,000
During the 60 day shutdown, DEF had no revenue from rentals. Some operating expenses continued during this period, albeit at a lesser rate. Other expenses did not continue.
As result of these changes in revenue and expenses, the actual net income during the 60 day period of business interruption was a net loss of $10,000.
The net loss of $10,000 however, is not the total measure of the actual business income loss. The actual loss of net income attributable to the shutdown is measured by the difference between what net income would have been earned had no loss occurred ($20,000) and the net income (loss in this case, of $10,000), a difference of $30,000.
Functional Building Valuation to which normal operating expenses continue during a period of business interruption. Accordingly, each dollar of expense reduces net income by one dollar and each dollar of expense that does not continue during a business interruption increases net income by that same amount. Therefore, a critically important part of estimating potential business income losses is determining which normal operating expenses will continue and which will not, in the event of a business interruption of a particular length.
In underwriting property insurance, underwriters may become uncomfortable in situations in which the replacement cost of a property significantly exceeds the market value of that property. In these situations, the underwriter may condition his/her acceptance of the risk upon the requirement that the property be valued on a functional building valuation basis.
Alternatively, it may be the insured who elects to have property valuation be on a functional basis rather than the more traditional replacement cost or actual cash value.
The Functional Building Valuation Endorsement is available to modify the coverage provided by the BPP by providing modified replacement cost coverage. For a total loss, the endorsement will cover the cost to repair or replace the building with a less costly building that is functionally equivalent to the original building. For a partial loss, the insurer will pay for the damaged portion of the building’s repair or replacement calculated on the basis of using less costly materials, if available, in the architectural style that existed before the loss. This endorsement also deletes the coinsurance clause.
replacement cost basis)
A common misconception surrounding the optional coverage for Agreed Value is that is somehow “Waives” the coinsurance provision. In reality, it does not. A failure to maintain the limit of insurance at the agreed value results in the coinsurance provision coming back into play.
#1: Two or more buildings
Building #1 $100,000 90% $90,000
Building #2 $ 80,000 90% $72,000
Schedule insurance: per above
Blanket insurance: $180,000 90% $162,000
Loss: a total loss to Building #1 ($100,000)
Schedule insurance will pay: $90,000
Blanket insurance will pay: $100,000
#2: Coverage: Two ore more categories of property at the same location (in this case, Building,
Your Business Personal Property, and Personal Property of Others)
Building $300,000 90% $270,000
Your Business Personal Property $200,000 90% $180,000
Personal Property of Others $100,000 90% $ 90,000
Total $600,000 $540,000
Loss: a total loss to personal property ($300,000) and a $100,000 loss to Building
Schedule insurance will pay: $270,000 for personal property + $100,000 for
Building, for a total of $370000
Blanket insurance will pay: the full $400,000 loss